Good news: That stumbling block no longer exists.
Strategy: Choose the Roth 401(k) feature for your 401(k). The new Pension Protection Act has permanently extended the benefits of Roth 401(k) plans past their original sunset date of Jan. 1, 2011.
In other words, you’ll be able to tap into tax-free Roth distributions no matter when you retire.
Here’s the drill: The Roth 401(k) concept actually arose back in 2001, with the Economic Growth and Tax Relief Reconciliation Act (EGTRRA). But Roth 401(k)s weren’t available until Jan. 1, 2006. And they originally were scheduled to expire after 2010 … until the new pension law extended them indefinitely.
As with your traditional 401(k) plan, contributions to a Roth 401(k) plan grow tax-deferred. But unlike a traditional 401(k), elective deferrals aren’t made with pretax dollars. The amounts you contribute to the plan are subject to current tax.
Instead, with a Roth 401(k) plan, you come out ahead on the back end: So long as you qualify, distributions from the plan are 100 percent tax-free. In comparison, distributions from a traditional 401(k) plan are taxable at ordinary-income rates extending to 35 percent.
To qualify for the tax exclusion, you must take Roth 401(k) distributions:
• After you’ve reached age 591/2.
• Upon death or disability.
• To pay for first-time home-buyer expenses (up to a lifetime limit of $10,000).
Contribution limits: They’re the same for traditional 401(k) plans and Roth 401(k) plans. So, you can contribute up to $15,000 to either type of account for 2006 or, alternatively, divide your total $15,000 contribution between the two types of plans (when available). Plus, you can kick in an extra $5,000 contribution this year if you’re age 50 or older.
Conventional wisdom holds that a traditional 401(k) is better if you’ll be in a lower bracket after you’ve retired. But that’s not always true. In fact, you can still come out way ahead with the Roth 401(k) option (see box).
In any event, you can use a Roth 401(k) plan to avoid mandatory lifetime distributions on a portion of your retirement nest egg.
Downside for employers: Roth 401(k)s can create extra administrative burdens. Weigh the benefits for employees against the hassle.
- Small Business Tax Deduction Strategies No matches